An S corporation passes its profit through to its owners, who pay tax on it once on their personal returns, while a C corporation pays a flat 21% federal tax on its profit and its shareholders pay tax again on any dividends. S corps suit profitable, US-owned businesses that take money out each year; C corps suit companies raising venture capital, with foreign or entity owners, or planning to reinvest profits and sell stock that may qualify for the QSBS exclusion. For 2027, a corporation or LLC that wants S status from January 1 files Form 2553 by March 15, 2027.
Key takeaways
- S corp status is a tax election (Form 2553), not a different kind of corporation.
- S corps pass income through to shareholders; C corps pay a flat 21% federal tax, and dividends are taxed again.
- S corps are limited to 100 eligible shareholders and one class of stock, with no nonresident alien owners.
- Venture-backed startups and companies with foreign owners are usually C corporations.
- S corp owners who work in the business must take a reasonable salary, which is where the payroll tax savings and the IRS scrutiny both come from.
First, a key point: “S corp” is a tax election
Legally, both are corporations formed under state law. The difference is tax treatment. A corporation (or an eligible LLC) becomes an S corporation by filing Form 2553 with the IRS. Without that election, a corporation is taxed as a C corporation by default.
What is an S corporation?
An S corporation is taxed as a pass-through entity. Its income, deductions and credits flow through to the shareholders, who report them on their individual returns. The business generally doesn’t pay federal income tax itself, which avoids the “double taxation” C corporations face.
To qualify, a company must meet specific requirements, including:
- No more than 100 shareholders
- Only one class of stock
- Only eligible shareholders: generally U.S. citizens and residents, estates and certain trusts. Partnerships, corporations and nonresident aliens can’t be shareholders.
That last rule matters for founders with non-U.S. owners or investors: a single nonresident alien shareholder terminates the S election.
What is a C corporation?
A C corporation is taxed as a separate entity from its shareholders. It pays federal corporate income tax on its profits at a flat 21% rate, and when those profits are distributed as dividends, shareholders pay tax on them again.
C corporations don’t have the S corp ownership limits: they can have unlimited shareholders of any type, including foreign owners and funds, and multiple classes of stock. That’s why venture-backed startups and companies planning to raise institutional capital are usually C corporations. C corporation stock may also qualify for the qualified small business stock (QSBS) gain exclusion under Section 1202. For stock issued after July 4, 2025, the One Big Beautiful Bill Act raised the per-issuer exclusion cap to $15 million and the gross-asset limit to $75 million, and added a partial exclusion for stock held three or four years (50% and 75%), with the full exclusion after five years.
S corp vs C corp at a glance
| S corporation | C corporation | |
|---|---|---|
| Federal income tax | None at entity level in most cases; owners pay at their own rates | 21% flat on profit |
| Dividends or distributions | Distributions generally tax-free up to basis | Dividends taxed again to shareholders (qualified dividends at 0%, 15% or 20%, plus 3.8% net investment income tax for some) |
| Owners | Up to 100; US citizens and residents, estates, certain trusts | Unlimited, any type, including foreign owners and funds |
| Classes of stock | One | Any, including preferred stock |
| Owner pay | Reasonable W-2 salary, then distributions | Salary, bonuses and dividends |
| QBI deduction (up to 20%) | Available to owners on qualifying income | Not available |
| QSBS gain exclusion | Not available | Available for qualifying stock |
| Federal return and 2027 due date (calendar year) | Form 1120-S, March 15, 2027 | Form 1120, April 15, 2027 |
At the top rates, C corporation profit paid out as a qualified dividend can bear about 39.8% in combined federal tax: 21% at the corporate level, then 23.8% on the 79% that is left. That is why C corps make most sense when profits stay in the company to fund growth.
The main differences
Taxation. S corporation profits pass through to shareholders and are taxed once, on their personal returns. C corporation profits are taxed at the corporate level, then again as dividends when distributed.
Ownership. S corporations are limited to 100 eligible shareholders and one class of stock. C corporations have no such limits.
Owner compensation. S corporation owners who work in the business must pay themselves a reasonable salary through payroll before taking distributions. We explain this in owner’s draw vs. salary.
Corporate formalities. Because both are corporations under state law, both are generally subject to the same state requirements: bylaws, board and shareholder meetings, minutes and annual reports, depending on your state. Choosing S corp tax status doesn’t reduce them. (An LLC that elects S corp taxation keeps the lighter formalities of an LLC.)
Liability. Both offer the same liability protection: shareholders’ personal assets are generally protected from the business’s debts and legal claims.
S corp vs. C corp for startups: which do founders choose?
If you plan to raise venture capital, the answer is almost always a C corporation, usually formed in Delaware. Venture rounds are typically priced in preferred stock, and an S corporation can have only one class of stock. Most venture funds are partnerships or LLCs, and an S corporation can’t have partnership, corporate or nonresident alien shareholders. C corporation stock can also qualify for the QSBS exclusion described above, which founders and early employees value at exit.
An S corporation tends to suit bootstrapped, profitable companies run by U.S. owner-operators who take money out each year. If you start as an S corp and later raise money, you can revoke the election and become a C corporation, but after revoking you generally can’t elect S status again for five years.
How do states treat S corps and C corps?
Most states follow the federal S election, but not all treat it the same. California charges S corporations 1.5% of net income with an $800 minimum, New York City and Washington, DC don’t recognize S status for their own business taxes, and New Jersey has treated federal S corporations as New Jersey S corporations automatically since December 22, 2022 unless they opt out. Many states also let pass-through entities pay a state-level pass-through entity tax. Check where your company does business before deciding.
Which one is right for your business?
If you’re a profitable small business owned by eligible U.S. shareholders and you plan to take income out of the business, an S corporation is often the better fit. If you plan to raise outside capital, bring in foreign owners, retain most earnings for growth, or eventually sell stock that could qualify for QSBS, a C corporation may make more sense.
The details matter, and the decision is harder to undo than to make. Talk to a tax professional before you elect. To estimate the payroll tax an S election could save, try our S corp tax savings calculator, which uses the 2026 and 2027 Social Security wage bases. We don’t prepare tax returns or elections, but we set up payroll and keep the books for either entity type, alongside your tax CPA. If you’d like help, get in touch.
Further reading: IRS guidance on S corporations and the SBA’s guide to choosing a business structure.
Frequently asked questions
Is an S corp or C corp better for a small business?
For a profitable small business owned by US owner-operators who take most profits out, an S corp is often cheaper because profit is taxed once. A C corp can be better if you reinvest most profit, plan to raise venture capital or have foreign owners.
Can an LLC be an S corp or a C corp?
Yes. An LLC can elect to be taxed as an S corporation with Form 2553, or as a C corporation with Form 8832, while staying an LLC under state law.
What is the corporate tax rate for C corporations in 2026 and 2027?
A flat 21% federal rate on taxable income. States may add their own corporate income or franchise tax.
Do S corporations pay any tax?
Usually not at the federal level, but some do: built-in gains tax on assets from former C corp years, tax on excess passive income, and state-level taxes such as California’s 1.5% or a state pass-through entity tax if elected.
Can a C corporation switch to an S corporation?
Yes, if it meets the eligibility rules, by filing Form 2553 with every shareholder’s consent. Assets it held as a C corp can trigger built-in gains tax if sold within five years of the conversion.
Can an S corporation have foreign owners?
No. A single nonresident alien shareholder ends the S election. Foreign founders and investors generally need a C corporation or an LLC taxed as a partnership.
Why do venture capital investors want a C corporation?
They usually invest through funds structured as partnerships and buy preferred stock, neither of which an S corporation allows. C corp stock can also qualify for the QSBS exclusion.
What is QSBS?
Qualified small business stock under Section 1202 lets eligible holders of C corporation stock exclude gain on a sale. For stock issued after July 4, 2025, the cap is $15 million per issuer, with partial exclusions after three and four years and the full exclusion after five.
Do S corp owners have to take a salary?
Yes, if they work in the business. The IRS expects a reasonable salary through payroll before distributions, and can reclassify distributions as wages if the salary is too low.
Is double taxation a reason to avoid a C corporation?
Not always. If profits are reinvested rather than paid out as dividends, the second layer of tax may not apply for years, and the 21% rate can be lower than the owners’ personal rates.
When is the deadline to elect S corp status for 2027?
For a calendar-year company, Form 2553 must be filed by March 15, 2027 for the election to apply from January 1, 2027. Late election relief may be available under Rev. Proc. 2013-30.
